The Tea Party's Circular Logic

Its revolt undermines the private sector more than it reins in "big government."

America's Tea Party has a simple fiscal message: The United States is broke. This is factually incorrect—U.S. government securities remain one of the safest investments in the world—but the claim serves the purpose of dramatizing the federal budget and creating a great deal of hysteria around America's current debt levels. This then produces the fervent belief that government spending must be cut radically—and now.

There are legitimate fiscal issues that demand serious discussion, including how to control growth in health care spending and how best to structure tax reform. But the Tea Party faction of the Republican Party cares more about small government than anything else. Its members insist, above all, that federal tax revenue never be permitted to exceed 18 percent of GDP. Their historical antecedent is America's anti-revenue Whiskey Rebellion in 1794, not the original anti-British, pro-representation Boston Tea Party in 1773.

Most importantly, their tactics have proved massively destructive of wealth in the United States. Since the prolonged showdown over the budget began earlier this year, the stock market has lost about 20 percent of its value (roughly $10 trillion). In effect, the Tea Party is working hard to reduce publicly funded social benefits—including pensions and Medicare—even as its methods dramatically reduce the value of private wealth now and in the future.

Part of the Tea Party's founding myth, of course, is that smaller government will lead to faster growth and greater prosperity for all. Never mind that the eye-popping growth projections in Rep. Paul Ryan's budget plan, for example, are utterly implausible; these projections matter politically, because, without them, the full sting of Ryan's proposed Medicare cuts would be readily apparent.

Standard & Poor's has received some justified criticism for the analysis behind its recent decision to downgrade U.S. government debt; after all, there was little economic news that could explain the move's timing. But S&P's assessment of the political situation is on target: By creating a dysfunctional paralysis at the heart of government, the Tea Party has shown that it is willing to impose dramatic costs on the broader economy and to ensure significantly slower growth.

Confrontation and brinkmanship have become the new watchwords of American politics, even when the U.S. government's legal ability to pay its debts is on the line, owing to the Tea Party's ideological rigidity. And the tone of political debate, not surprisingly, has become much nastier.

By signing a pledge not to raise taxes, Tea Party representatives have credibly committed themselves not to acquiesce in any middle-of-the-road compromise. If they break this pledge, presumably they will face defeat in the next round of Republican Party primaries. So while a budget deal would technically be easy to achieve, it looks politically impossible in the near term. Indeed, while Congress and the Republican Party have become less popular during 2011, support for the Tea Party has remained remarkably constant, at around 30 percent of the population. Its tactics thus appear politically sustainable, at least through the 2012 elections.

Perhaps the most damaging outcome of these tactics is to take countercyclical fiscal policy off the table completely. Regardless of what happens to the global economy in the weeks and months ahead, it is inconceivable that any kind of meaningful fiscal stimulus would get through the House of Representatives.

It remains to be seen whether the U.S. Federal Reserve will also feel constrained by the political mood on Capitol Hill. Clearly, influential Tea Party supporters would strongly resist any attempt now by Fed Chairman Ben Bernanke to find unorthodox ways to run a more expansionary monetary policy.

And, as for protecting the financial system against disaster, the current majority on the House Financial Services Committee is clear—they favor use of the bankruptcy system when megabanks get into serious trouble. If the eurozone crisis continues to spiral out of control, the United States should expect to see Lehman-type or near-Lehman-type collapses among exposed financial institutions.

The irony of the Tea Party revolt, of course, is that it undermines the private sector more than it reins in "big government." The S&P downgrade resulted in a "flight to quality," meaning that investors bought U.S. government debt—thus increasing its price and lowering the rate that the federal government pays to borrow.

It was the value of the stock market that fell sharply—which makes sense, given that countercyclical policy is now severely constrained. The government part of the credit system has been strengthened, relatively speaking, by developments over the past few months. It is the private sector—where investment and entrepreneurial activity are needed to generate growth and employment—that has taken a beating.

Unless and until America's private sector recovers, investment and job creation will continue to stagnate. But today's atmosphere of fear and aggressive budget tactics are combining to undermine private-sector confidence and spending power.

As Jonathan Swift put it in 1727, "Party is the madness of many, for the gain of the few."